A few weeks ago, I had the pleasure of talking to Samir Kaji on the Venture Unlocked podcast about a wide range of topics that we as venture capitalists think about everyday, including:
How to build a generational firm — retaining partner talent and finding the complimentary networks and skillsets firms need to succeed over time
The state of venture today and how COVID crammed 10 years of technological change into one accelerated year
And much more. You can listen to the entire conversation above or via this link, but I also wanted to highlight one topic we discussed that I feel strongly about, which is how I think enterprise sales and venture fundraising are basically the same muscle. Let me explain.
Three Rules of Fundraising “Sales”
One of the common mistakes I see startups as well as VCs make is spending too much time on top of funnel prospecting. Why? Because it’s comparatively easier to have a first meeting, meet each other, share stories, etc. than it is to start narrowing down and doing the work to close the deal, or risking hearing a no. But here’s the thing — it’s not just startups who do it. We all do it on this side of the table too. LPs, VCs, everyone. We love first meetings! It’s the mid and bottom funnel that’s hard.
I counsel first-time VCs (as well as founders) to have mid-funnel strategies to get from first LP meeting to close and to put a disproportionate amount of time into this area (I say more about this on the podcast starting at timecode 27:41). Like any enterprise sale, you want to think from the perspective of the buyer and what they need to feel confident about the decision to buy a stake or ownership in your fund.
Here are the three rules I think about in any sale, whether it’s enterprise sales or when trying to move LPs to a decision, there are three keys you need to be able to answer:
Why buy anything?
Why buy me?
Why buy now?
Why Buy Anything?
When raising a first fund (or a fifth or even a tenth), it’s all about establishing your core target market and finding out who is in the market for what you are selling? Whilst there are a wide range of LPs and you could have first meetings for months (and many VCs do), there is probably a much smaller number of LPs who want to invest in a fund your size, with your focus, and whose minimum or maximum check size lines up with what you’re seeking.
So I encourage first-time fundraisers to qualify, qualify, qualify. Do the legwork to find the people who want to buy specifically what you’re selling. Research everyone who has raised a comparably-sized fund and find out who backed them — that’s your target market. Every other conversation will be wasted time, and just like an enterprise startup, wasted time is an existential threat.
Why Buy Me?
OK, so you’ve found your target LPs who invest in funds at your stage. Now it’s time to convince them why they need to invest in your fund, when they could invest in other funds with more proven returns or partners. And again, just like in enterprise sales, this is all about differentiation — what makes you different and complimentary to all the other funds in their portfolio? What’s your unique selling proposition?
For Upfront, it’s about Los Angeles. We invest 40% of our dollars in Southern California firms — and even though by definition that means the majority of our dollars are invested outside the area, that still makes us meaningfully different from the ten other Sand Hill Road funds this LP might be speaking with. We’re definitely not a “regional investor” but we do have some comparative advantage in a good portion of our deals.
It’s critical to stand for a firm differentiator and here’s why: it shines a clear spotlight on whether you are or are not a good bet for this LP. If you do everything that every other firm does, in the same ways, why should they buy you? And yes — a firm differentiator means that not everyone will buy into your thesis but that’s okay. You don’t need everyone, you just need a few core believers and having a hard “why buy me” pitch makes it easier to find and convert those leads.
“Why buy me” is also a good time to leverage references and external people who can vouch for you, who can champion who you are and why you’re a good bet. Everyone loves to know that someone else has bought first, and LPs are no different.
Why Buy Now?
This can be the hardest of the three rules to sell whether you’re in enterprise sales (“why buy this now when I can wait until you have more traction, more logos, more product features?”) or whether you’re raising a fund (“why invest now when I can see how your first fund turns out and come in for the next one?”)
This is all about creating scarcity and being willing to walk away, but doing it with a smile on your face. For Upfront, we raise consistently sized funds and have been fortunate to have LPs with us fund after fund, whether in our core A fund or our growth funds that support some of our most promising investments. That means there’s not a lot of room to bring in new investors down the line, and hopefully that’s true of first-time funds as well — they do so well that the second fund is oversubscribed. Any customer, whether an LP or a big enterprise buyer, needs to know that there’s a chance they could miss out.
You can hear more about these three rules and more in my conversation with Samir — it was a fun one to do and I hope you’ll enjoy it as much as I did.
Customer acquisition is the lifeblood of many startups from e-commerce to gaming to marketplace companies, among others. Most of these startups spend the lion’s share of their marketing budget in today’s social media channels: Facebook, Twitter, Reddit, Snap, TikTok and so on because — no surprise — that’s where the customers are.
Digital advertising spend is projected to grow 25% this year to $191 billion, and Google (69%), Facebook (59%), Snapchat (116%) and Twitter (87%) all just reported rapid growth in their year over year advertising revenues. For these companies, it looks like a rosy picture.
But if you ask anyone in the ecosystem of customer acquisition — founders, marketers, investors — and you’ll hear the same thing: customer acquisition (CAC) is getting harder and more expensive. Some of this can be attributed to the exponential growth in e-commerce and direct-to-consumer businesses as a result of the pandemic and global lockdowns — eCommerce for example grew 39% just last year – so there’s simply more demand. And some of this can be attributed to the increased pressure on the available platforms not only to facilitate acquisition at scale but to do so in an increasingly “walled garden,” privacy-restricted world.
Despite the huge and sustained growth in digital advertising (or maybe because of it), there are virtually no tools where a marketer or growth leader can understand their performance and spend across channels, nor where they can share best practices and insights with their peers so the platforms are at an information advantage.
That’s where Trust comes in — it was built to arm those spending money in channels in order not to be at a disadvantage.
Trust, which today has announced a $9 million financing (Upfront is an investor), is a platform designed to help make the most of marketing investment by providing both analytics and a community of likeminded executives to share what’s working, and what’s not, across platforms. Think of it as Bloomberg for marketers, in a way that gives smaller companies and teams as much firepower as larger organizations to help them optimize spend across channels and identify new, high-performing opportunities. This is accomplished through aggregated, anonymized competitive benchmarking, market-level performance data across the major social and ad platforms, and curated news and conversation from industry leaders.
To start, Trust is also launching with the Trust virtual card, which essentially funnels credits and preferred billing to any business, allowing them to increase their marketing buying power by up to 20x and receive 45-day payment terms for all their marketing investments.
Why Did I Invest in Trust?
As a VC, one of the key things I’m looking for in any new investor is “product-founder fit” e.g. does this founder have an insight or advantage that makes them uniquely suited to successfully build this product and business? There are plenty of talented, smart founders out there but you’d be surprised how many don’t have that “unfair advantage” when it comes to their product and audience.
Trust is led by CEO and co-founder James Borow, who led Snap’s global programmatic ads platform and grew the self-service ads revenue from 0 to $1B+ over three years. In that role, James and his co-founders (many also from the Snap team) saw first-hand how hard it was for companies to understand where and how to best invest in marketing, and how opaque the platforms make it for advertisers. They lived this challenge every day alongside their customers at Snap, and Trust was founded out of a direct desire to reshape marketing and ad-spend dynamics for the people who are on the ground building businesses. To me, that’s the textbook example of “product-founder fit” and one of the reasons I believe this business will succeed.
Since day one I’ve believed in James as a founder who deeply understands and empathizes with his customer pain point, not just from the user side but also from the platform side. A lot of people have tried to solve multi-channel analytics and optimization, but I believe James and team have the unique set of skills and experience to finally crack the code.
As an investor in early-stage companies, many of whom are living the customer acquisition challenge every day, I’m excited to see how Trust can reshape the playing field for startups and larger organizations alike. Founders, marketers and growth leaders — join the Trust waitlist here.
I recently wrote a post about funding for investors to think about having a diversified portfolio, which I called “shots on goal.” The thesis is that before investing in an early-stage startup it is close to impossible to know which of the deals you did will break out to the upside. It’s therefore important to have enough deals in your program to allow for the 15–20% of amazing deals to emerge. If you funded 30–40 deals perhaps just 1 or 2 would drive the lion’s shares of returns.
You can think of a shot on goal as the numerator in a fraction where the numerator is the actual deals you completed and the denominator is the total number of deals that you saw. In our funds we do about 12 deals / year and see several thousand so the funding rate is somewhere between 0.2–0.5% of deals we evaluate depending on how you count what constitutes “evaluating a deal.”
This is Venture Capital.
The Denominator Effect
I want to share with you some of the most consistent pieces of advice I give to new VCs in their career journey and the same advice holds for angel investors. Focus a lot on the denominator.
Let’s assume that you’re a reasonably well-connected person, you have a strong network of friends & colleagues who work in the technology sector and you have many friends who are investors either professionally or as individuals.
Chances are you’ll see a lot of good deals. I’d be willing to bet that you’d even see a lot of deals that seem amazing. In the current market it’s not that hard to find executives leaving: Facebook, Google, Airbnb, Netflix, Snap, Salesforce.com, SpaceX … you name it — to start their next company. You’ll find engineers out of MIT, Stanford, Harvard, UCSD, Caltech or execs out of UCLA, Spelman, NYU, etc. The world of talented people from the top companies & top schools is literally tens of thousands of people.
And then add on to this people who worked at McKinsey, BCG, Bain, Goldman Sachs, Morgan Stanley and what you’ll have is not only really ambitious young talent but also people great at doing presentation decks filled with data and charts and who have perfected the art of narrative storytelling through data and forecasts.
Now let’s assume you take 10 meetings. If you’re reasonably smart and thoughtful and hustle to get in front great teams I feel highly confident you’ll find at least 3 of them compelling. If you get in front of great teams, how could you not?
But now let’s assume that you push yourself hard to see 100 deals over a 90 day period and meet as many teams as you can and don’t necessarily invest in any of them but you’re patient to see what great truly looks like. I feel confident that after seeing 100 companies you’ll have 4 or 5 that really stand out and you find compelling.
But here’s the rub — almost certainly there will be no overlap from those first three deals you thought were high quality and the 4 or 5 you’re now ready to pound your fist on the table to say you should fund.”
Ok, but the thought experiment needs to be expanded. Now let’s say you took an entire year and saw 1,000 companies. There is no way you’d be advocating to fund 300–400 hundred of them (the same ratio as the 3–4 out of your first 10 deals). In all likelihood 7 or 8 deals would really stand out as truly exceptional, MUST DO, slam-your-first-on-the-table type deals. And of course the 7 or 8 deals would be different from the 4 or 5 you first saw and were ready to fight for.
Venture is a numbers game. So is angel investing. You need to see a ton of deals to begin to distinguish good from great and great from truly exceptional. If your denominator is too low you’ll fund deals you consider compelling at the time that wouldn’t pass muster with your future self.
So my advice boils down to these simple points:
Make sure you see tons of deals. You need to develop pattern recognition for what truly exceptional looks like.
Don’t rush to do deals. Almost certainly the quality of your deal flow will improve over time as will your ability to distinguish the best deals
I also am personally a huge fan of focus. If you see a FinTech deal today, a Cyber Security deal tomorrow and then creator tools the next day … it’s harder to see the pattern and have the knowledge of truly exceptional is. If you see every FinTech company you can possible meet (or even a sub-sector of FinTech like Insurance Tech company … you can truly develop both intuition and expertise over time).
Get lots of shots on goal (completed deals, which is the numerator) in order to build a diversified portfolio. But make sure your shots are coming from a very large pool of potential deals (the denominator) to have the best chances of success.
The world around us is being disrupted by the acceleration of technology into more industries and more consumer applications. Society is reorienting to a new post-pandemic norm — even before the pandemic itself has been fully tamed. And the loosening of federal monetary policies, particularly in the US, has pushed more dollars into the venture ecosystems at every stage of financing.
We have global opportunities from these trends but of course also big challenges. Technology solutions are now used by authoritarians to monitor and control populations, to stymie an individual company’s economic prospects or to foment chaos through demagoguery. We also have a world that is, as Thomas Friedman so elegantly put it — “Hot, Flat & Crowded.”
With the enormous changes to our economies and financial markets — how on Earth could the venture capital market stand still? Of course we can’t. The landscape is literally and figuratively changing under our feet.
What Has Changed in Financing?
One of the most common questions I’m asked by people intrigued by but also scared by venture capital and technology markets is some variant of, “Aren’t technology markets way overvalued? Are we in a bubble?”
I often answer the same way …
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“First, yes, nearly every corner of our market is over-valued. By definition — I’m over-paying for every check I write into the VC ecosystem and valuations are being pushed up to absurd levels and many of these valuations and companies won’t hold in the long term.
However, to be a great VC you have to hold two conflicting ideas in your head at the same time. On the one hand, you’re over paying for every investment and valuations aren’t rational. On the other hand, the biggest winners will turn out to be much larger than the prices people paid for them and this will happen faster than at any time in human history.
So we only need to look at the extreme scaling of companies like Discord, Stripe, Slack, Airbnb, GOAT, DoorDash, Zoom, SnowFlake, CoinBase, Databricks and many others to understand this phenomenon. We operate at scale and speed unprecedented in human history.”
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I first wrote about the changes to the Venture Capital ecosystem 10 years ago and this still serves as a good primer of how we arrived at 2011, a decade on from the Web 1.0 dot-com bonanza.
In short, In 2011 I wrote that cloud computing, particularly initiated by Amazon Web Services (AWS)
Spawned the micro-VC movement
Allowed a massive increase in the number companies to be created and with fewer dollars
Created a new breed of LPs focused on very early stage capital (Cendana, Industry Ventures)
Lowered the age of the average startup and made them more technical
So the main differences in VC between 2001 to 2011 (see graphic above) was that in the former entrepreneurs largely had to bootstrap themselves(except in the biggest froth of the dot com bubble) and by 2011 a healthy micro-VC market had emerged. In 2001 companies IPO’d very quickly if they were working, by 2011 IPOs had slowed down to the point that in 2013 Aileen Lee of Cowboy Ventures astutely called billion-dollar outcomes “unicorns.” How little we all knew how ironic that term would become but has nonetheless endured.
Ten years on much has changed.
The market today would barely be recognizable by a time traveler from 2011. For starters, a16z was only 2 years old then (as was Bitcoin). Today you have funders focused exclusively on “Day 0” startups or ones that aren’t even created yet. They might be ideas they hatch internally (via a Foundry) or a founder who just left SpaceX and raises money to search for an idea. The legends of Silicon Valley — two founders in a garage — (HP Style) are dead. The most connected and high-potential founders start with wads of cash. And they need it because nobody senior at Stripe, Discord, Coinbase or for that matter Facebook, Google or Snap is leaving without a ton of incentives to do so.
What used to be an “A” round in 2011 is now routinely called a Seed round and this has been so engrained that founders would rather take less money than to have to put the words “A round” in their legal documents. You have seed rounds but you now have “pre-seed rounds.” Pre-seed is just a narrower segment where you might raise $1–3 million on a SAFE note and not give out any board seats.
A seed round these days is $3–5 million or more! And there is so much money around being thrown at so many entrepreneurs that many firms don’t even care about board seats, governance rights or heaven forbid doing work with the company because that would eat into the VCs time needed to chase 5 more deals. Seed has become an option factory for many. And the truth is that several entrepreneurs prefer it this way.
There are of course many Seed VCs who take board seats, don’t over-commit to too many deals and try to help with “company building” activities to help at a company’s vulnerable foundations. So in a way it’s self selecting.
A-Rounds used to be $3–7 million with the best companies able to skip this smaller amount and raise $10 million on a $40 million pre-money valuation (20% dilution). These days $10 million is quaint for the best A-Rounds and many are raising $20 million at $60–80 million pre-money valuations (or greater).
Many of the best exits are now routinely 12–14 years from inception because there is just so much private-market capital available at very attractive prices and without public market scrutiny. And as a result of this there are now very robust secondary markets where founders and seed-funds alike are selling down their ownership long before an ultimate exit.
Our fund (Upfront Ventures) recently returned >1x an entire $200 million fund just selling small minatory in secondary sales while still holding most of our stock for an ultimate public market exits. If we wanted to we could have sold > 2x the fund easily in the secondary markets with significant upside remaining. That never would have happened 10 years ago.
How are VC Firms Like Ours Organizing to Meet the Challenges?
We are mostly running the same playbook we have for the past 25 years. We back very early stage companies and work alongside executive teams as they build their teams, launch their products, announce their companies and raise their first downstream capital rounds. That used to be called A-round investing. The market definition has changed but what we do mostly hasn’t. It’s just now that we’re Seed Investors.
The biggest change for us in early-stage investing is that we now need to commit earlier. We can’t wait for customers to use the product for 12–18 months and do customer interviews or look at purchase cohorts. We have to have strong conviction in the quality of the team and the opportunity and commit more quickly. So in our earliest stages we’re about 70% seed and 30% pre-seed.
We’re very unlikely to do what people now call an “A Round.” Why? Because to invest at a $60–80 million pre-money valuation (or even $40–50 million) before there is enough evidence of success requires a larger fund. If you’re going to play in the big leagues you need to be writing checks from a $700 million — $1 billion fund and therefore a $20 million is still just 2–2.5% of the fund.
We try to cap our A-funds at around $300 million so we retain the discipline to invest early and small while building our Growth Platform separately to do late stage deals (we now have > $300 million in Growth AUM).
What we promise to entrepreneurs is that if we’re in for $3–4 million and things are going well but you just need more time to prove out your business — at this scale it’s easier for us to help fund a seed extension. These extensions are much less likely at the next level. Capital is a lot less patient at scale.
What we do that we believe is unique relative to some Seed Firms is that we like to think of ourselves as “Seed / A Investors” meaning if we write $3.5 million in a Seed round we’re just as likely to write $4 million in the A round when you have a strong lead.
Other than that we’ve adopted a “barbell strategy” where we may choose to avoid the high-priced, less-proven A & B rounds but we have raised 3 Growth Funds that then can lean in when there is more quantitative evidence of growth and market leadership and we can underwrite a $10–20 million round from a separate vehicle.
In fact, we just announced that we hired a new head of our Growth Platform, (follow him on Twitter here → Seksom Suriyapa — he promised me he’d drop Corp Dev knowledge), who along with Aditi Maliwal (who runs our FinTech practice) will be based in San Francisco.
Whereas the skills sets for a Seed Round investor are most tightly aligned with building an organization, helping define strategy, raising company awareness, helping with business development, debating product and ultimately helping with downstream financing, Growth Investing is very different and highly correlated with performance metrics and exit valuations. The timing horizon is much shorter, the prices one pays are much higher so you can’t just be right about the company but you must be right about the valuation and the exit price.
Seksom most recently ran Corporate Development & Strategy for Twitter so he knows a thing or two about exits to corporates and whether he funds a startup or not I suspect many will get value from building a relationship with him for his expertise. Before Twitter he held similar roles at SuccessFactors (SaaS), Akamai (telecoms infrastructure), McAfee (Security Software) and was an investment banker. So he covers a ton of ground for industry knowledge and M&A chops.
Years ago Scott Kupor of a16z was telling me that the market would split into “bulge bracket” VCs and specialized, smaller, early-stage firms and the middle ground would be gutted. At the time I wasn’t 100% sure but he made compelling arguments about how other markets have developed as they matured so I took note. He also wrote this excellent book on the Venture Capital industry that I highly recommend → Secrets of Sand Hill Road.
By 2018 I sensed that he was right and we began focusing more on our barbell approach.
We believe that to drive outsized returns you have to have edge and to develop edge you need to spend the preponderance of your time building relationships and knowledge in an area where you have informational advantages.
At Upfront we have always done 40% of our investing in Greater Los Angeles and it’s precisely for this reason. We aren’t going to win every great deal in LA — there are many other great firms here. But we’re certainly focused in an enormous market that’s relatively less competitive than the Bay Area and is producing big winners including Snap, Tinder, Riot Games, SpaceX, GoodRx, Ring, GOAT, Apeel Sciences (Santa Barbara), Scopely, ZipRecruiter, Parachute Home, Service Titan — just to name a few!
But we also organize ourselves around practice areas and have done for the past 7 years and these include: SaaS, Cyber Security, FinTech, Computer Vision, Sustainability, Healthcare, Marketplace businesses, Video Games — each with partners as the lead.
Where are Things Headed for VC in 2031?
Of course I have no crystal ball but if I look at the biggest energy in new company builders these days it seems to me some of the biggest trends are:
The growth of sustainability and climate investing
Investments in “Web 3.0” that broadly covers decentralized applications and possibly even decentralized autonomous organizations (which could imply that in the future VCs need to be more focused on token value and monetization than equity ownership models — we’ll see!)
Investments in the intersection of data, technology and biology. One only needs to look at the rapid response of mRNA technologies by Moderna and Pfizer to understand the potential of this market segment
Investments in defense technologies including cyber security, drones, surveillance, counter-surveillance and the like. We live in a hostile world and it’s now a tech-enabled hostile world. It’s hard to imagine this doesn’t drive a lot of innovations and investments
The continued reinvention of global financial services industries through technology-enabled disruptions that are eliminating bloat, lethargy and high margins.
As the tentacles of technology get deployed further into industry and further into government it’s only going to accelerate the number of dollars that pour into the ecosystem and in turn fuel innovation and value creation.
At our mid-year offsite our partnership at Upfront Ventures was discussing what the future of venture capital and the startup ecosystem looked like. From 2019 to May 2022, the market was down considerably with public valuations down 53–79% across the four sectors we were reviewing (it is since down even further).
==> Aside, we also have a NEW LA-based partner I’m thrilled to announce: Nick Kim. Please follow him & welcome him to Upfront!! <==
Our conclusion was that this isn’t a temporary blip that will swiftly trend-back up in a V-shaped recovery of valuations but rather represented a new normal on how the market will price these companies somewhat permanently. We drew this conclusion after a meeting we had with Morgan Stanley where they showed us historical 15 & 20 year valuation trends and we all discussed what we thought this meant.
Should SaaS companies trade at a 24x Enterprise Value (EV) to Next Twelve Month (NTM) Revenue multiple as they did in November 2021? Probably not and we think 10x (May 2022) seems more in line with the historical trend (actually 10x is still high).
What You Can Learn From Public Markets
It doesn’t really take a genius to realize that what happens in the public markets is highly likely to filter back to the private markets because the ultimate exit of these companies is either an IPO or an acquisition (often by a public company whose valuation is fixed daily by the market).
This happens slowly because while public markets trade daily and prices then adjust instantly, private markets don’t get reset until follow-on financing rounds happen which can take 6–24 months. Even then private market investors can paper over valuation changes by investing at the same price but with more structure so it’s hard to understand the “headline valuation.”
But we’re confident that valuations will get reset. First in late-stage tech companies and then it will filter back to Growth and then A and ultimately Seed Rounds.
And reset they must. When you look at how much median valuations were driven up in the past 5 years alone it’s bananas. Median valuations for early-stage companies tripled from around $20m pre-money valuations to $60m with plenty of deals being prices above $100m. If you’re exiting into 24x EV/NTM valuation multiples you might overpay for an early-stage round, perhaps on the “greater fool theory” but if you believe that exit multiples have reached a new normal, it’s clear to me: YOU. SIMPLY. CAN’T. OVERPAY.
It’s just math.
No blog post about how Tiger is crushing everybody because it’s deploying all its capital in 1-year while “suckers” are investing over 3-years can change this reality. It’s easy to make IRRs work really well in a 12-year bull market but VCs have to make money in good markets and bad.
In the past 5 years some of the best investors in the country could simply anoint winners by giving them large amounts of capital at high prices and then the media hype machine would create awareness, talent would race to join the next perceived $10bn winner and if the music never stops then everybody is happy.
Except the music stopped.
What Happens Next?
There is a LOT of money still sitting on the sidelines waiting to be deployed. And it WILL be deployed, that’s what investors do.
Pitchbook estimates that there is about $290 billion of VC “overhang” (money waiting to be deployed into tech startups) in the US alone and that’s up more than 4x in just the past decade. But I believe it will be patiently deployed, waiting for a cohort of founders who aren’t artificially clinging to 2021 valuation metrics.
I talked to a couple of friends of mine who are late-stage growth investors and they basically told me, “we’re just not taking any meetings with companies who raised their last growth round in 2021 because we know there is still a mismatch of expectations. We’ll just wait until companies that last raised in 2019 or 2020 come to market.”
I do already see a return of normalcy on the amount of time investors have to conduct due diligence and make sure there is not only a compelling business case but also good chemistry between the founders and investors.
What is a VC To Do?
I can’t speak for every VC, obviously. But the way we see it is that in venture right now you have 2 choices — super size or super focus.
At Upfront we believe clearly in “super focus.” We don’t want to compete for the largest AUM (assets under management) with the biggest firms in a race to build the “Goldman Sachs of VC” but it’s clear that this strategy has had success for some. Across more than 10 years we have kept the median first check size of our Seed investments between $2–3.5 million, our Seed Funds mostly between $200–300 million and have delivered median ownerships of ~20% from the first check we write into a startup.
I have told this to people for years and some people can’t understand how we’ve been able to keep this strategy going through this bull market cycle and I tell people — discipline & focus. Of course our execution against the strategy has had to change but the strategy has remained constant.
In 2009 we could take a long time to review a deal. We could talk with customers, meet the entire management team, review financial plans, review customer purchasing cohorts, evaluate the competition, etc.
By 2021 we had to write a $3.5m first check on average to get 20% ownership and we had much less time to do an evaluation. We often knew about the teams before they actually set up the company or left their employer. It forced extreme discipline to “stay in our swimming lanes” of knowledge and not just write checks into the latest trend. So we largely sat out fundings of NFTs or other areas where we didn’t feel like we were the expert or where the valuation metrics weren’t in line with our funding goals.
We believe that investors in any market need “edge” … knowing something (thesis) or somebody (access) better than almost any other investor. So we stayed close to our investment themes of: healthcare, fintech, computer vision, marketing technologies, video game infrastructure, sustainability and applied biology and we have partners that lead each practice area.
We also focus heavily on geographies. I think most people know we’re HQ’d in LA (Santa Monica to be exact) but we invest nationally and internationally. We have a team of 7 in San Francisco (a counter bet on our belief that the Bay Area is an amazing place.) Approximately 40% of our deals are done in Los Angeles but nearly all of our deals leverage the LA networks we have built for 25 years. We do deals in NYC, Paris, Seattle, Austin, San Francisco, London — but we give you the ++ of also having access in LA.
To that end I’m really excited to share that Nick Kim has joined Upfront as a Partner based out of our LA offices. While Nick will have a national remit (he lived in NYC for ~10 years) he is initially going to focus on increasing our hometown coverage. Nick is an alum of UC Berkeley and Wharton, worked at Warby Parker and then most recently at the venerable LA-based Seed Fund, Crosscut.
How Does the Industry Really Work?
Anybody who has studied the VC industry knows that it works by “power law” returns in which a few key deals return the majority of a fund. For Upfront Ventures, across > 25 years of investing in any given fund 5–8 investments will return more than 80% of all distributions and it’s generally out of 30–40 investments. So it’s about 20%.
But I thought a better way of thinking about how we manage our portfolios is to think about it as a funnel. If we do 36–40 deals in a Seed Fund, somewhere between 25–40% would likely see big up-rounds within the first 12–24 months. This translates to about 12–15 investments.
Of these companies that become well financed we only need 15–25% of THOSE to pan out to return 2–3x the fund. But this is all driven on the assumption that we didn’t write a $20 million check out of the gate, that we didn’t pay a $100 million pre-money valuation and that we took a meaningful ownership stake by making a very early bet on founders and then partnering with them often for a decade or more.
But here’s the magic few people ever talk about …
We’ve created more than $1.5 billion in value to Upfront from just 6 deals that WERE NOT immediately up and to the right.
The beauty of these businesses that weren’t immediate momentum is that they didn’t raise as much capital (so neither we nor the founders had to take the extra dilution), they took the time to develop true IP that is hard to replicate, they often only attracted 1 or 2 strong competitors and we may deliver more value from this cohort than even our up-and-to-the-right companies. And since we’re still an owner in 5 out of these 6 businesses we think the upside could be much greater if we’re patient.
